Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?
One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock, then decide if Family Dollar (NYS: FDO) fits the bill.
The quest for perfection
Stocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:
Growth. Expanding businesses show healthy revenue growth. While past growth is no guarantee that revenue will keep rising, it's certainly a better sign than a stagnant top line.
Margins. Higher sales mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.
Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.
Money-making opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.
Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.
Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.
With those factors in mind, let's take a closer look at Family Dollar.
What We Want to See
Pass or Fail?
5-Year Annual Revenue Growth > 15%
1-Year Revenue Growth > 12%
Gross Margin > 35%
Net Margin > 15%
Debt to Equity < 50%
Current Ratio > 1.3
Return on Equity > 15%
Normalized P/E < 20
Current Yield > 2%
5-Year Dividend Growth > 10%
5 out of 10
Source: S&P Capital IQ. Total score = number of passes.
Since we looked at Family Dollar last year, the discount retailer has lost a point. The company has taken on some additional debt in the past 12 months, which accounts for the move from six points to five.
For many investors, Family Dollar first came to prominence during the recession and subsequent financial crisis, during which bargain-hunting shoppers sought out the best values they could find. That helped stocks of price-conscious businesses like McDonald's (NYS: MCD) and Wal-Mart (NYS: WMT) weather the huge losses in the market during 2008, but Family Dollar performed even better, gaining more than 20% for the year.
But rather than fading away when somewhat better times came along -- or perhaps because those better times were never as good as many had hoped -- Family Dollar has stayed relevant in today's economy. That's largely because of the current demand "barbell" in retail, in which both high-end targeted stores like Teavana (NYS: TEA) and lululemon athletica (NAS: LULU) as well as ultra-discounters like Family Dollar and Dollar Tree (NAS: DLTR) are performing well.
What many don't realize, though, is that Family Dollar has successfully dealt with the ups and downs of economic conditions for decades. As a Dividend Aristocrat, Family Dollar has raised its payouts annually for 35 straight years.
In the low-margin retail industry, Family Dollar may never reach a perfect 10 on our scale. But the company continues to impress with good results. If it stays on track, Family Dollar could make a perfect investment for shareholders over the long haul.
No stock is a sure thing, but some stocks are a lot closer to perfect than others. By looking for the perfect stock, you'll go a long way toward improving your investing prowess and learning how to separate out the best investments from the rest.
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At the time thisarticle was published Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. The Motley Fool owns shares of Wal-Mart and lululemon athletica. Motley Fool newsletter services have recommended buying shares of Wal-Mart, McDonald's, and lululemon athletica, as well as creating a diagonal call position on Wal-Mart. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.
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